The Importance of a Cash Reserve Policy

money on table as cash reserves

We all know that the budgeting process can be quite challenging and stressful for nonprofits. A budget will not only help you plan for the future, but it also helps to assess your current financial health. Organizations have to use various methods and strategies to determine how much revenue and expenses need to be collected and spent to achieve their short and long-term goals as well as to maintain their daily operations. But less than expected factor in the unexpected into these projections or when discussing long-term goals. One of these goals should be the continued financial stability of the organization and one way to achieve that is to implement a cash reserve policy.

The ultimate goal of a cash reserve policy is simple: set cash aside for a rainy day. In our personal lives, we maintain savings accounts that will help us during hardship or other unforeseen circumstances that will require us to spend unanticipated funds. Every nonprofit organization should use the same thought process, so they are covered in case of an unexpected financial shortfall. Situations can arise from a sudden roof replacement to less than anticipated program revenue to the decline or cessation of a long-term funding stream. A cash reserve will ensure that at any given time sufficient funds are available to manage the day-to-day cash flow, maintain financial flexibility, and cover unanticipated expenditures.

Many nonprofit organizations are aware of the importance of cash reserves, yet they have insufficient or even negative reserves. Under these circumstances, they are putting the organization at risk. A “healthy “cash reserve can positively impact an organization’s cash flow, encourage existing donors to continue their support, attract new donors and allow the organization to focus on its long-term financial stability as well as the preservation of promoting its mission and services.

So what does this mean from a financial perspective? In accounting terms, it means that the nonprofit organization should budget for a net gain in any given year and accumulate as much unrestricted net assets as possible to enhance and expand current programs or provide a cushion to sustain the organization during tough times. Generally speaking, we recommend that a nonprofit organization should have a cash reserve that is equal to 6 months of the annual operating expense budget but depending on the organization other internal and external aspects may need to be factored in. Last but not least, we recommend to transfer the actual cash reserve funds into its own cash or savings account and implement a policy that allows the use of these resources only when the circumstances described above occur and only with board approval.

If you have questions about implementing a cash reserve policy or need assistance in preparing or reviewing your annual budget, please don’t hesitate to contact Halt, Buzas & Powell or give us a ring (703) 836–1350.

 

Written by Kristin Siebeneicher